Auditing the auditors: some improvement. But what of the economy?

The audit failures I have been highlighting so regularly are given full exposure in the Financial Reporting Council’s latest report on big-firm audit quality in the UK. Adverse findings relate to the usual suspects: goodwill impairment, revenue recognition, IT controls and loan loss provisions.

Although quality (or lack of it) varies between the four top firms, the FRC concludes that, despite improvement in some areas, the standard of bank auditing continues to disappoint.

Out of ten bank audits selected for inspection, not even one made it to the top grade. Yet, as I have pointed out many times, if the rules themselves demand that banks’ losses may be recognised only when incurred (rather than expected) auditors can hardly be blamed for those significant underprovisions.

AND THE ECONOMY?

In October 2008 Gordon Brown applied his own threefold formula for averting financial catastrophe: first, save three bust banks by taking controlling interests, courtesy of taxpayers; second, cut interest rates to stimulate consumer demand, at the same time halting the fall in house prices; third, flood the money markets with billions of pounds of government bonds, freshly printed to order.

Mr Brown’s three-card trick was modelled on the Keynesian idea of stimulating aggregate demand regardless of whether anything useful is produced, and governments unprincipled enough to try it have found that it makes matters worse in the long run.
The moral hazard of categorising major banks as “too big to fail” has created a blueprint for market distortion and malinvestment, allowing fiat money to be poured into projects that have no realistic prospect of making a profit while protecting promoters and lenders against commercial risk.

Deliberate suppression of interest rates allows government and City institutions to borrow at near zero cost, a market interference that stimulates short-term consumption while penalising savers. It deprives the lending market of funds for longer-term infrastructure projects that could reignite real productive effort.

Any process that deliberately destroys purchasing power must trigger price inflation

The third policy feature, quantitative easing, stretches government debt to the point where the likelihood of repayment must be measured in terms of luck rather than judgement. Logically, any process that deliberately destroys purchasing power must trigger price inflation. The popular press continually over-simplifies the reason for rampant house-price inflation by referring to a mismatch between demand and supply, while ignoring the impact on house prices of debasing the currency in which they are measured.

DON’T BELIEVE THE STATISTICS

Statisticians tell us that local inflation averages only 1 to 2 per cent. This counter-intuitive conclusion confirms what we already knew – that government statisticians either inhabit a different planet or are engaged expressly to produce numbers that enable their masters to “prove” that it helps the economy to debase the currency.

the cereal packs are perceptibly thinner

Politicians who believe that price inflation has been held down to 1.8 per cent have clearly never done the household shopping. Nor do statistics reflect supermarkets’ own price-war weapon: reducing the quantity of their packs. These may appear unchanged until you discover that the bottom of the plastic container has been hollowed out, the cereal packs are perceptibly thinner and the kitchen rolls comprise one-third fewer sheets per roll.

Ironically, the European Central Bank is so determined to prove that fiat money spent on sovereign bailouts somehow does not inflate the money supply that it now actually warns of the demon deflation. Yet deflation would hurt only the profligate governments and banks forced to repay debts in currency worth more than that which they borrowed. Citizens, by contrast, would benefit from the lower cost of living brought about by falling prices.

Some countries are frantic to depress the value of their currencies to achieve short-term export gain – but deliberate cheapening of export prices merely induces an internal transfer of wealth from non-export sectors to export sectors, while giving subsidies to foreign purchasers.

Governments remaining blind to the causes of their recurring crises can never hope to cure them

Governments remaining blind to the causes of their recurring crises can never hope to cure them. Every manipulation has its price, and every short-term win generates a long-term hangover.
Will they ever learn?